What Is AMT (Alternative Minimum Tax), and How Does It Affect the R&D Tax Credit?

When applying for a research and development tax credit, business owners frequently question if the credit will reduce their AMT. Although that is a valid query, to find an answer, you must first understand some of AMT’s most important aspects and how they can affect your R&D tax credit. This knowledge can later help you identify the best approach to the application process.

Can You Use R&D Tax Credits to Offset AMT?

Initially, taxpayers could only use the R&D tax credit to offset regular income tax above TMT (tentative minimum tax). Such regulation was limiting for companies and individuals subject to AMT because the TMT was higher than the regular tax. As a result, they could not take advantage of the R&D tax incentive or other credits on Form 3800.

However, the Protecting Americans From Tax Hikes (PATH) Act of 2015 changed the situation by making it possible for qualified small companies to utilize the R&D tax incentive to offset AMT, starting from January 1st, 2016. According to IRC 38(C)(4)(A) and (B), the R&D tax credit is now included in a specific credit category. Credits in this group can utilize $0 as a TMT to limit the credit for qualifying small companies. As a result, the proposed minimum tax on Form 3800 would be $0 for the great majority of small businesses and pass-through corporations.

The reforms essentially created a considerably lower bar for taxpayers to use the R&D tax credit to reduce the income tax burden on time rather than carrying the credit forward. Still, some restrictions — such as the 25/25 rule — remain. Section 38(c)(1) prohibits taxpayers having regular tax liabilities of more than $25,000 from utilizing the credit to offset more than 75% of their tax obligations. Moreover, AMT still has a cap on carryforwards from before 2016.

How Small Companies Can Use the R&D Tax Credit to Offset the AMT

A small company must meet two conditions to reduce AMT using the R&D tax credit. First, it must be a non-publicly traded sole proprietorship, partnership, or corporation with annual gross receipts of $50 million or less over the last three years. Second, it must conduct qualifying research as specified by IRC Section 41.

Qualifying Businesses

The R&D tax credit is available to any non-publicly traded businesses, partnerships, and sole proprietorships in any industry. However, some industries are more often involved in qualifying operations, such as life sciences, engineering, manufacturing, and technology and software.

Qualifying Activities and Costs

According to the IRS, qualified research activities must pass a four-question test:

1. Was the research meant to create or improve a product, method, software, technique, recipe, or innovation in terms of functionality, quality, dependability, or performance?

2. Was it primarily a technological development?

3. Was there initial technological uncertainty over the approach, competence, or suitable design?

4. Was experimentation or process used to resolve the technical uncertainty?

Furthermore, QREs include contract labor, employee salaries, cloud computing services, and materials. To qualify, contractors and employees must perform work activities in the United States. However, administrative and general costs do not qualify, even if they were partly or entirely in support of eligible research.

When You Need Expert Help

If you are a small business owner looking for a way to offset the AMT, don’t hesitate to contact us. Our experts can help you identify QREs and claim the R&D tax credit you can later use against AMT.

FAQs

What factors trigger the Alternative Minimum Tax (AMT)?

You can find a complete list of AMT triggers on the official IRS website. However, some examples are:

• Foreign tax credit

• Prior-year AMT

• Qualified electric vehicle credit

• Net operating loss deduction

• Tax-free interest from private activity bonds

• Accelerated depreciation

How can I tell if I’m subject to AMT?

If your adjusted gross income tax reaches the exemption threshold, AMT taxes become obligatory. For individuals, the exemption is $72,900, while for joint filers, it’s $113,400

What exactly is an AMT credit?

AMT credit is a dollar-for-dollar reduction for any additional taxes you may have had to pay in prior years as a result of the AMT. Simply put, you could pay less in taxes this year if you exercised incentive stock options (ISOs) and paid AMT in earlier years thanks to this credit.